It’s more complicated than the book value plus goodwill. In a two-part piece, an experienced practice accountant shares his wisdom.
I have been asked this question more times than I have had hot dinners.
This has increased in recent times given GP practice acquisition race is on again and eye watering prices are being paid!
If you own a general practice and you have been reading the recent national newspaper headlines, you would have noticed the amazing prices paid for general practices. You would think you had just hit the jackpot. It may have triggered an inkling of curiosity to know more and ask how much is my practice really worth?
For practice owners, this article may help you contextualise a practical ‘call to action’ and save you significant time and money.
The first step is to treat your practice like an investment and not a job or a liability. Everyday what you do will determine your final destiny and its final value.
When I meet a new client, the first thing I say “it is my job is to fire you”. You need to work on and not in your practice. It should be a choice. Practices that rely less on their owner’s for income are worth more due to their intellectual property and have balance sheet value. Those that rely on their owners have profit and loss (EBIDTA) value. They are worth less because when they go so does the practice.
There is never a simple answer to valuing your practice. It all depends on how you treat it and where you sit on the above two extremes.
There are a lot of myths circling around the nation on this topic. I will attempt to confirm and dispel these myths. In the end you should be able to judge what you think your practice is really worth or at least know how to work it out or find out.
If you do not have time to read this, do not complain if you feel you keep working harder for less reward. This is about setting your priorities right. You can afford to become a better doctor for your patients and the community you serve. You can be fairly rewarded for working smarter and not harder.
In the late 1990’s, the well-run and bigger flagship practices in your local area commanded high prices. This encouraged many more practices to join the bandwagon. As a result, as more practices entered the market the corporate offers fell off the cliff from an EBITDA of 6 to 8 times to 1 to 2 times. Then in the last 12 months, we have seen prices for general practice skyrocket beyond 10 times at the height of COVID19.
Many practices are going for a bargain whereas others are going for an eye watering sum. In responding to the COVID19 vaccine roll out, aging practice owners are facing a serious dilemma. Do I renovate the house (practice) to meet the requirements? With new COVID immunisation laws, is simply doing nothing an option? Should I sell the house at renovators delight prices as the feeling of “it is getting all too hard and I am tired of this #$%#” feeling settles in?
Am I throwing in good money and time after bad?
Recent articles such as New GP vaccination items don’t add up and Patients should be free to choose even if the vaccine is not free can spook even the most courageous of practice owners to invest more money and time in these uncertain times. You need to have a long game plan.
Right now many practice owners are expected to dig deep into their retirement funds so they can lead the COVID19 fight. At the same time many are rightfully asking – to what end?
The real truth is that certain parts of General Practice are enjoying a mini boom. Patients are now more health conscious. It is a new environment. We need to get used to living through a perennial flu season for at least the next couple of years. Some have been able to take advantage of this but many are reluctant to do so.
Practices that can sustainably manage COVID19, technology, competition, staffing demands and new laws are simply worth more!
During my long career, I have often heard doctors talk down practice ownership to other doctors. It is sold as an unsolvable financial and mental burden.
For the optimist, with much uncertainty comes many new opportunities. Fortune does favour the bold.
Practices that can eat ‘change management’ for breakfast and remain sustainable are very attractive to buyers.
Practice owners who take the time out to think carefully.
How you and your practice ends up is a choice (after you have got the banks off your back). No one is immune to cognitive dissonance.
Just remember that after the day you retire, many patients would have moved on and may have even forgotten your name. You are not as indispensable as you think. If you accidentally seriously hurt your patient they want to see your face on the 6 o’clock news. Instantly it becomes irrelevant how many years of dedicated service you have provided them or their family.
Ultimately, your loved ones will either thank you or hate you for it. They will have a long time in retirement to nag you for all those times you were saving your patients lives at the expense of family dinners, holidays and financial security. Owning and running a practice comes with a level of responsibility and cost that often cannot be quantified. It is a worthy challenge.
What is my practice worth?
It would be easy to give you a simple number or formula to work out how much your practice is worth.
The media would report high profile healthcare transactions with numbers thrown left, right and centre, yet many people simply have little understanding or context of what it actually represents. Private, unlisted transactions are unregulated and media reports are often based on hearsay or ‘street talk’ without any context. Needless to say all of this makes for a great talking point at the family BBQ or local doctors meeting with a charismatic entrepreneur!
In reality, this is often a difficult question for practice owners to contemplate. Complex structures, poor financial literacy and a lack of comparable public information makes it hard to assess. Just anecdotal variable sales evidence.
Today’s fast moving environment is far more sophisticated and complex. The new digital footprint age makes it near impossible to recreate a more favourable past or transaction. Whether it is the tax office or a disgruntled buyer, it is much easier for your past to instantly catch up with you for better or worse. There is a lot to be said in engaging honestly with potential buyers. Your professional reputation and legacy is often on the line.
Adding to this complexity is when your own financial adviser cannot simply explain your numbers back to you.
Accordingly, it is important to understand and explore the context of ‘practice value’ before we can ask our advisors the right questions.
Just another vanity metric?
Growing up, each year my late father would invite a real estate agent to inspect the family home and tell him how much it was worth. Concerned that we were about to sell our beloved family home, I asked him why he kept doing this with no intention of selling? It seemed like an embarrassing waste of time with the real estate agent.
For financial security reasons, he felt safe knowing what the family home was worth. Born in India, in 1947 at the age of 17, his family lost everything due to the partition of Bengal. With only their suitcase, they had to leave their homes, furniture and my grandfather’s legal practice behind.
Every time you check out the local online real estate section, subconsciously you may be guilty of the same thing my father used to do with real estate agents. I am certain that many of you can relate to my story. Such needs are no different if you own a practice.
Beyond greed, we all have our genuine personal reasons for seeking to regularly take stock of our financial security. You should not feel guilty or be put off from making inquiries. Like a regular annual health check up, it is a prudent approach. Your practice should be treated like an investment and not an overhead, read my interview Your practice as an investment Medical Journal of Australia.
Practice values vary widely
Prices do vary for a variety of reasons. Unlike buying or renting a house, it is not possible to make a meaningful comparison of your practice on the internet.
For a buyer, a value is based on what a bank is prepared to lend or for an investor what they are prepared to invest. Some practices you simply could not give away. Others are offered a rare and breathtaking amount of money. Overnight, your general practice may be worth double to 10 times more than you think simply by ensuring your practice is presented in a way that follows generally accepted principles (whether that be accounting, governance, clinical etc.).
COVID19 has added more complexity beyond your solid track record. Your future potential and needs to make strategic street sense. Not everyone is bullish, many are nervous of a local outbreak and its impact.
Healius and Medibank last year forked out hundreds of millions to purchase general practices throughout Australia. They proved there is a healthy appetite for certain types of general practices that are a strategic fit to their operations.
The headlines have certainly moved a plethora of new and existing practice owners to reconsider how or when they should exit. This will fuel an unprecedented demand and invigoration of new re/investment and competition into the GP marketplace. It is my hope that this can be met by a future generation of doctors.
The pragmatic world is surrounded by well intended but savvy bankers, lawyers, accountants and advisers. They may have an influence on the final price paid for your practice.
Advisers and bankers are less concerned by how the selling practice owner feels. It remains a practical assessment of risk and numbers for them. Advisers are often transactional, but you have to live with your decision and commitment. They do not want to risk being sued for not asking the tough questions. So what can you do? Be confident and ready to answer. Potential purchasers and future practice owners can be easily put off by the smallest of details e.g. unsigned employment or provider agreements and unclear financial statements.
In the hope a corporate or any potential owner will simply write you a big cheque, think again. It is a process and not just an event. Your practice has to always be ready for sale.
You never know when you have had enough, when you need to strategically secure a new doctor or when you suddenly fall sick or ill and can no longer work.
How to value your practice?
Warning: if you are not into detail it may be a good idea to refer this to somebody who is. It is really not that complicated so it is worth a further read.
Times have changed, when it comes to putting the price on your general practice. Due to the increasing regulatory and technological sophistication it goes beyond the book value plus goodwill. More sophisticated and accurate tools are being used by buyers, advisers and banks.
The formula on the coffee mug, updated to include bushfires and the coronavirus, has been a long held traditional business valuation tool used by business valuers and our legal system.
The future maintainable earnings approach is the most popular method to value any business using a multiple of earnings. This is euphemistically referred to as the EBITDA approach in the industry. EBITDA stands for future earnings before interest, depreciation and amortisation (EBITDA). This number comes from your net profit in your profit and loss statement. It is then adjusted for future years based on average expected earnings usually over a 3 to 5 year period.
The value is then calculated based on your EBITDA x multiple (no. of years).
By multiplying the EBITDA over a number of specified years for this particular investment (the practice) a singular value for the practice can be established. The multiple or multiplier is used to express the number of years and investment will pay back in full. Using a multiple of say 1, this means 1 year, it can be as many years as the buyer expects to generate a full return on its investment. For general practice the number is between 1 to 5. I normally see 3 to 4 for general practice.
(Disclaimer: This is a ‘quick and dirty’ overview. Please seek professional advice before acting on this information. It should provide you with a starting point for discussion).
A crude back of the envelope example: if you project an annual investment rate pre-tax return of 30% (3.3 multiple or 3.3 years) to 10% (10 multiple or 10 years) based on your estimated future maintainable profits, say EBITDA $100 p.a., then the value of your practice may be $330 to $3,000 on sale (i.e. $100/30% or $100/10% respectively). The lower price is due to more risks being involved in the acquisition.
This methodology is a commonly used GP practice corporate valuation tool often quoted in the national financial newspapers.
A big warning if a practice has a profit sharing agreement. Joining as an owner if you are subject to that agreement’s profit sharing arrangement – for example if you can only share in the costs of the practice entity and you keep 100% of your billings outside this entity – then the value of the entity is only worth as much as your share entitles you to in the profit sharing formula. If the financial statements are not showing a net profit or a constant loss, then it may be worth very little. You would not be expected to pay much for an ongoing liability. In this case joining the entity may be a permanent liability. It would be hard to sell, unless a radical change to the profit sharing arrangements was pre-agreed to prior to the purchase. In the early 1990s this type of associateship expense sharing arrangement was in place. This led to an significant undervaluation of general practice.
Smart medical corporates bought many practices on the cheap for this reason. Many owners did not understand what they really had or what it was valued at. They were wooed by the flashy letterheads, dinners and charismatic billion-dollar-doctor founders. Many did not want to pay for independent legal and accounting advice, not realising they sold their practices on the cheap like pathology rents. Corporates put these business models and numbers into a more logical and understandable model for others to buy into for a premium.
By the late 1990s when the corporatisation of Australian general practice had begun I would see 8 times multiples for flagship practices. Dominated by the major players, these multiples dropped in the early 2010s to 1 to 3 times.
Last year this number skyrocketed with some new players on the block. Purchases beyond 10 times your estimated future practice earnings.
Who you are planning to sell to and timing is everything.
So what is the true market value of my practice?
For some cynics you could be forgiven for thinking all this talk about EBITDA and multiples is frankly a load of rubbish. You would be right and wrong for one simple reason.
The true market value of anything is based on a simple principle.
“Business valuers in Australia typically define market value as: the price that would be negotiated in an open and unrestricted market between a knowledgeable, willing but not anxious buyer and a knowledgeable, willing but not anxious seller acting at arm’s length.”
To find out the true value of your practice you have to be a willing seller and require no less than two genuine competing buyers. The final price is what the winning buyer agrees on.
The EBITDA approach assists in determining what price a person is prepared to pay for certainty. Being aware that this methodology is commonly being used helps you understand how to better price your practice to a willing buyer beyond a gut feeling.
A number of key factors affect the value of your practice
Understanding these key factors can help you improve the value of your practice. It starts with the right attitude. Treat your practice like an investment and not a liability.
Wealthier people are healthier! This includes the financial health of your practice
Flight stewards always say in an airplane emergency you should put your oxygen mask on first or you will not be able to help the person next to you. The same applies when it comes to owning and running your practice and your personal investments. The real message is that self-care is important and often overlooked.
Poverty breeds ill health and ill health breeds poverty.
Many studies prove the wealthier you are, the healthier you are to help others. GP practice owners are expected to donate their time to service the unviable new MBS COVID19 item numbers. Unless you are financially strong and prepared to donate financial resources, you may not legally be able to meet this expectation. Insolvent trading is a criminal offence in this country under the Corporation Act 2001. It is not a discretionary choice, so think carefully beyond your moral and ethical duties. Can you afford to commit to programs that may not be financially viable? How will this impact the value of your practice or your retirement nest egg? Does it even really matter?
Your practice is not something you can take ‘upstairs’ with you. It should be treated and looked after like an active investment. It is like looking after a child. It can make you or break you depending on how they are nurtured.
For many practice owners, looking after this ‘active investment’ is meant to make up for not having “employee superannuation” and “long service leave” when you retire. It is your biggest and most significant life investment you have made.
The old school
My late father was a DIY practice owner. He sold his medical practice for nothing. In fact, he never tried. He passed away in 2006, ten days after he retired. He was old school. Ignoring good advice offered, he left the farm (practice) empty-handed. He had a do nothing or minimalist approach when it came to running his practice.
He was never a great believer in spending money on lawyers, accountants or advisers. Selling never crossed his mind. There is nothing wrong with that.
Selling down some or all of your practice is a choice. It is this decision that is the primary reason for seeking out how much it is worth.
Like my father, if you have no intention in selling, then finding out its value may be of little consequence. The only exception is if you are heavy in debt and the bank is asking or you are simply curious what it could be worth.
I have a client whose 10 GP owners had a $12 million turnover. At the time they said it was worth nothing. To test them I offered $1 for it. After simply explaining what it was worth and why, they immediately rejected my offer. With a better understanding, they treat their practice like an investment and it has experienced remarkable success.
Your practice could be worth more than the value of outstanding liabilities, written down plant, equipment book value plus 15% of the turnover as goodwill if you can simply understand and present your financial books correctly and in a logical manner.
I have many more thoughts to share – you owe it to yourself and your loved ones to read on.
Next time: In Part II, the main reasons why owners sell for less than they expect, and why you need to understand your numbers.
Note: This information is for general information and discussion only. I am not a lawyer. Please seek professional experienced and qualified accounting and legal advice and do not act on this information alone.
After a serious work related car accident in 1989, and nine operations later I continue to be a patient and provider advocate. I enter my third decade as a national Chartered Accountant for Medical and Healthcare practices in Australia. I am a former 10-year Australian General Practice Accreditation surveyor. I come from a medico family. I have served on the AAPM national Board and was the inaugural national Chair of the Certified Practice Manager CPM post nominal. I continue to provide accounting tax and practice management advice to many practices all over Australia.